Let's get physical: pandemic business loss and insurance

In late March 2020, not long after the realization set in that the COVID-19 outbreak had become a global pandemic, an Ontario Superior Court of Justice decision involving the shutdown of a nuclear reactor was quietly released. Along with a follow-up ruling by the Ontario Court of Appeal, that decision provides a glimpse of how insurance companies would, or would not, compensate businesses for loss of business resulting from the pandemic.

In MDS v. Factory Mutual Insurance, the superior court considered whether the definition of “physical loss” or damage could be expanded to include “loss of use.” For those businesses suffering through government-mandated lockdowns because of COVID-19, the extension of that “physical loss” definition could be the salvation to their financial woes — a glimmer of hope in tough times.

In 2006, MDS agreed to buy radioisotopes from Atomic Energy of Canada. MDS planned to sell the radioisotopes worldwide for cardiac imaging, cancer treatments and sterilizing medical products.

In 2009, heavy water containing radioactive tritium was discovered leaking through the wall of the reactor. The reactor was shut down for 15 months to repair the leak. The shutdown caused MDS to lose both its supplier of radioisotopes and profit of more than $121 million. It was later discovered that the leak was caused by unanticipated corrosion.

MDS claimed that the loss of use of the Atomic Energy of Canada reactor to produce the radioisotopes was “property damage” and therefore fell into an exception to the Factory Mutual policy’s corrosion exclusion. MDS’s all-risks policy stated that if an excluded peril (such as corrosion) caused physical damage not excluded by the policy, the damage that resulted from the leak was not excluded and should be covered.

Factory Mutual denied MDS’s claim for lost profits, arguing it was excluded under the policy because it didn’t involve a physical loss of property.

The trial judge ruled in favour of MDS, saying the term “physical damage” was ambiguous. The court held that because physical damage was not defined and dictionaries did not provide particular guidance, there was no definitive definition of what constituted “physical damage” in all-risk policies in Canada.

The superior court in the MDS case made clear that its interpretation of damage was largely dependent upon the specific wording of the policy. However, the insurance industry worried that the broader interpretation of physical damage could mean businesses might be entitled to business interruption coverage if their business was rendered unusable due to a non-tangible pathogen such as COVID-19. The Canadian Insurance Bureau even ended up as an intervenor in the case.

“I think that the trial court’s willingness to allow a claim for economic loss from the physical damage scared [insurers]”, says Robert Martz, a lawyer at Burnet Duckworth & Palmer LLP in Calgary. “If the trial court’s views were adopted generally, it would make it much easier to succeed on economic loss claims, which are typically much more significant than physical damage claims.” He notes it would likely be catastrophic for the industry, given the global nature of the pandemic.

So, it’s no surprise that the superior court ruling in MDS was appealed. And for many lawyers, it is also no surprise that the appeal court in September overturned the lower court’s decision, concluding that it’s clear whether there is “physical damage” or not.

The Ontario Court of Appeal “dialled back the expansive approach the lower court took,” says Martz. “It is not uncommon to see courts of appeal reigning in trial courts when it comes to insurance policies.” He adds that trial courts are often relatively sympathetic to the argument of policyholders denied coverage.

Justine Forsythe, with Whitelaw Twining in Vancouver, says that as the impact of the pandemic grows more apparent, even as we slowly “get back to normal.” The litigation strategy used in insurance cases will also evolve, including attempts to broaden the definition of physical damage. However, she believes that “while there might be exceptions based on the specific wording of a particular contract, the traditional view of the meaning of ‘physical damage’ will likely prevail.”

Forsythe points to a 2015 B.C. appeal court decision, Acciona Infrastructure Canada Inc. v. Allianz Global Risks U.S. Insurance Company, which defines “physical loss” and “damage” as an alteration in the appearance, shape, colour, or other material dimensions of the property insured. This definition is what most people would consider physical damage, she says.

But Forsythe also says some cases from the U.S. demonstrate that there may be arguments available for policyholders to make, depending on the policy’s wording. Regulation of insurance is handled at the state level — and attempts to bring class actions or multidistrict suits have been unsuccessful. The result is that thousands of individual COVID-related coverage lawsuits have been launched, with one University of Pennsylvania Law School litigation tracker putting the number at around 2,000.

In cases where the insurers have asked courts to dismiss the suits, the majority have been successful. However, some courts in the U.S. have found that policyholders’ allegations of “physical loss of or damage to property” were sufficient to survive early motions, and those cases have proceeded to the discovery process.

For instance, in SWB Yankees LLC v. CNA Fin. Corp., an August 2021 decision from the Pennsylvania State Court, the judge rejected the insurers’ arguments that the plaintiff failed to allege “direct physical loss or damage” sufficient to trigger coverage for its COVID-19 business interruption losses, based on the plaintiff’s pleadings that its covered property was rendered “unsafe” and “unfit for its intended use” due the coronavirus.

In Ross Stores, Inc. v. Zurich Am. Ins. Co. (July 2021), a California Superior Court judge denied a motion to dismiss the plaintiffs’ claims for business interruption coverage. The insurers had argued that the presence of coronavirus is not “property damage” and cannot constitute “direct physical loss.” However, the policy at issue did not contain the word “direct” in the insuring agreement but instead covered “all risks of physical loss or damage,” which the court considered broader than “direct physical loss.” The court concluded that policy included coverage for loss of physical use of the plaintiff’s stores and physical premises.

In P.F. Chang’s China Bistro Inc. v. Certain Underwriters at Lloyd’s of London (February 2021), the California Superior Court denied the insurer’s motion for judgment on the pleadings. Lloyd’s argued that the coronavirus does not cause “direct physical loss of or damage to property.” The court held that a broad interpretation of “any physical loss of … property” includes the inability to access or use all or a portion of the physical premises.

Forsythe acknowledges that the number of U.S. cases where the insurers could not have the case dismissed is small. And one of the first appeal-level rulings — Oral Surgeons P.c. v. Cincinnati Insurance Co. in the Eighth Circuit of the Federal Court — may be more in line with how she expects Canadian courts will decide. In that case, the court held that the lost business income and some extra expense sustained from the COVID-19 pandemic and the related government-imposed restrictions did not constitute direct “accidental physical loss or accidental physical damage” under the plaintiff’s policy. The Eighth Circuit confirmed the policy required direct “physical loss” or “physical damage” to trigger business interruption and extra expense coverage and ruled “there must be some physicality to the loss or damage of property.”

Still, it may be a high hurdle to cross, but several COVID-related class-action suits have been filed in Canada, along with dozens of individual lawsuits. Doug Stewart, a partner with Dentons Canada LLP, says it has become a hot-button issue, and “no one really knows” how courts will deal with the COVID-related cases. The MDS decisions may deal with different non-COVID circumstances, “but obviously, it’s relevant.”

In Ontario, the various COVID-19 coverage class actions are being case managed by one judge. To date, three class actions involve Aviva, and one other is against 14 different insurers. The plaintiffs allege that Aviva’s policy wording specifically offers coverage for business income loss caused by restricted access to the property because of government orders related to an outbreak of a contagious disease. Aviva denies these coverages are meant to respond to an international pandemic.

The claims against Aviva were carved out of the larger “omnibus” action to allow the more focused claims aimed only at Aviva to proceed faster. The Ontario case management judge has referred to the certification stage for these claims as “plain vanilla certification,” with the difficult coverage issues to be argued on their merits later.

Forsythe says there are various class actions filed against insurers for business interruption in B.C. as well. The majority of the defendants in those claims are also defendants in the Ontario omnibus action. The various plaintiff groups are cooperating and have agreed to proceed in Ontario first, with the agreement of those overlapping defendants. As a result, the B.C. class actions, while in case management, are relatively dormant at this stage.

In the Quebec-based case Centre dentaire Boulevard Galeries d’Anjou inc. c. L’Unique assurances générales inc., the Superior Court of Quebec, allowed the application for authorization to bring a class action against the insurer. The judge noted the policy did not include the concept of “direct damage” and concluded the policy wording was broad and contained ambiguities that required more detailed analysis.

While it doesn’t deal with COVID-19 specifically, the MDS case has significance because the Ontario Superior Court decision appears to be the first case in Canada to suggest that, in the context of an all-risk property policy, resulting physical property damage can include loss of use. However, given the success of the appeal in overturning that decision, its relevance has been muted. And even if it had withstood the appeal, lawyers suggest its applicability as a precedent would likely have been limited to those cases that involve loss of use because of, or at least closely tied to, physical damage.

Still, the MDS case has undoubtedly highlighted some of the challenges that will surely emerge as the various cases wind their way through the court system. And one of these cases could likely end up at the Supreme Court of Canada. (At this time, no party has decided to appeal the Court of Appeal for Ontario MDS ruling).

In the meantime, lawyers working on insurance cases suggest the wording in an insurance policy is critical. Whether economic losses arising in connection with the COVID-19 pandemic will be seen to amount to physical loss or damage to property “will depend on the language of the policy,” says Dentons’ Stewart.

For example, the Ontario Court of Appeal stated that “where a policy is intended to include not only physical but economic losses, insurance policies have specifically defined property damage to include loss of use.”

Adds Martz: “So this gets back to the old advice of buy the most expensive insurance coverage you can afford, and the clearer, the better.” 

CANADIAN COVID-19 BUSINESS INTERRUPTION CLASS ACTIONS

• Nordik Windows v. Aviva: Ontario Superior Court of Justice Edward Belobaba ruled on Sept. 10 that Nordik, along with Hangar9 Studios Inc., Cash and Carry Inc. and Real Food for Real Kids Inc., are suitable representative plaintiffs in a class-action lawsuit.
• Workman Optometry Professional Corp et al. v. Co-Operators, Continental Casualty Co. Desjardin et al.: Class action certified on Aug. 20 by Justice Belobaba, involving several plaintiffs (including a suit store, a smoothie shop and a dance studio) and 14 insurance companies as defendants.
• Matt McCallum, Matt McCallum Denturist Professional Corporation v. Aviva Insurance Co. of Canada: Class action certified on July 27 by Justice Belobaba involving a group of denturists.
• The Royal Canadian Legion, Victory Branch #317 v. Aviva Insurance Co. of Canada: Class action certified on July 27 by Justice Belobaba, involving legion groups across the country.

U.S. insurance cases on COVID-19 and ‘physical damage’

• Ross Stores, inc. v. Zurich Am. Ins. Co. (July 2021): California Superior Court denied a motion to dismiss the plaintiffs’ claims for business interruption coverage. It concluded that the policy included coverage for loss of physical use of the plaintiff’s stores and physical premises.
• P.F. Chang’s China Bistro Inc. v. Certain Underwriters at Lloyd’s of London (February 2021): California Superior Court held that a broad interpretation of “any physical loss of … property” includes the inability to access or use all or a portion of the physical premises.
• SWB Yankees LLC v. CNA Fin. Corp., (August 2021): Pennsylvania State Court judge rejected the insurers’ arguments that the plaintiff failed to allege “direct physical loss or damage” sufficient to trigger coverage for its COVID-19 business interruption losses.
• Oral Surgeons P.c. v. Cincinnati Insurance Co.: Eighth Circuit of the Federal Court held that the policy required direct “physical loss” or “physical damage” to trigger business interruption coverage, ruling “there must be some physicality to the loss or damage of property.”